iBasis Inc. Q2 2009 Earnings Call Transcript

iBasis Inc. (IBAS)

Q2 2009 Earnings Call Transcript

July 22, 2009 5:00 pm ET

Executives

Ofer Gneezy – President, CEO and Chairman

Dick Tennant – SVP, Finance and Administration and CFO

Analysts

Ben Mackovak – Rivanna Capital

Presentation

Operator

Good day ladies and gentlemen and welcome to the iBasis Second Quarter Financial Results Conference Call. At this time all participants are in listen-only mode. There will be an opportunity to ask questions at the conclusion of the presentation. My name is Peggy and I will be your conference coordinator for today. I would like to advise you that this conference is being recorded. (Operator instructions).

Today, our speaker is Mr. Ofer Gneezy, President and CEO of iBasis, and Mr. Richard Tennant, CFO of iBasis.

I would now like to hand the presentation over to Mr. Ofer Gneezy. Please go ahead, sir.

Ofer Gneezy

Thank you, Peggy. Good afternoon and welcome to the iBasis second quarter 2009 results conference call. This is Ofer Gneezy, President and CEO. Joining me today are Dick Tennant, our CFO and Gordon VanderBrug, our Executive VP.

You may know on July 13th, we announced that our Board of Directors received notice from Royal KPN of its intention to commence an unsolicited tender offer to acquire all of the outstanding iBasis shares, it doesn't already own at an offer price of $1.55 per share in cash. KPN owns approximately 56% of iBasis outstanding stock and is our company's largest stockholder.

Yesterday afternoon, we announced that our Board of Directors has formed a Special Committee of Independent Directors to consider the unsolicited tender offer proposed by KPN. The Special Committee comprised of W. Frank King, Chairman, Robert H. Brumley and Charles Corfield will review and evaluate the proposed offer and make a recommendation to iBasis stockholders.

We urge stockholders to consider this recommendation before taking any action with respect to the proposed tender offer by KPN. The Special Committee has retained Jefferies & Company, Inc. to serve as its independent financial advisor and Gibson, Dunn & Crutcher LLP as its independent legal advisor.

As this is our second quarter result call, we are only discussing matters related to our financial results and business performance. We will not be taking any questions on KPN's proposed unsolicited tender offer on today's call.

Before we begin Dick will read the safe harbor statement.

Dick Tennant

Thanks, Ofer. Good afternoon everyone. Various remarks that we make about our future expectations, plans and prospects constitute forward-looking statements for purposes of the safe harbor provisions under the Private Securities Litigation Reform Act of 1995. Our actual results may differ materially from those indicated by these forward-looking statements, as a result of various risks and uncertainties associated with our business.

For further information regarding these risks and uncertainties, please refer to our Q2 2009 earnings press release and our Form 10-K for the fiscal year ended December 31, 2008, as well as our other filings with the Securities and Exchange Commission. Such forward-looking statements are only as of the date they are made and we have no current intention to update any forward-looking statements.

Ofer Gneezy

Thank you, Dick. Q2 was a strong quarter. We achieved the highest gross margin, the highest adjusted EBITDA margin and the highest quarterly free cash flow since Q4 '07. The first quarter of combined operations after the transaction with KPN.

At the same time, we increased the value we delivered to our customers by providing high quality service at the lower average revenue per minute, but not at the expense of profitability, as we continue to expand our average margin per minute.

We have achieved sequential growth in gross profit, our fourth consecutive quarter of gross margin expansion, a 10% sequential increase in adjusted EBITDA and a dramatic increase in free cash flow resulting in a significant improvement of our net cash position. This result reflects our first full quarter of focus on the growth initiatives launched at the beginning of the year after having completed the KPN integration.

In Q2 we continued to benefit from our strategic pricing initiative, this effort has been instrumental in shedding low margin traffic and expanding our gross margin. Combined with global economic condition, this activity has also resulted in a decline in traffic volume and revenue in the short-term. As the process stabilizes in the near future we believe we have strength in the systems, policies, and practices to resume growing revenue profitably.

Our focus on reducing operating expenses has also been very successful. We reduced OpEx again in Q2 continuing a trend that began in Q4 '07, the first quarter after the closing of our transaction with KPN. Since then we have reduced quarterly operating expenses by 27% largely as a result of realizing synergies from the successful integration of our Netherlands and U.S. operations.

We also demonstrated the strong cash generation capability of the business in Q2 by achieving substantial, sequential growth in free cash flow to approximately $14 million in Q2 compared to $3 million in Q1. And we increased our net cash position by approximately $11 million to $38.1 million compared to $27.2 million in Q1. The gain in net cash is and especially noteworthy achievement is our cash position improvement was partially offset by a $5.2 million payment to KPN, a final payment on a working capital adjustment associated with our 2007 KPN transaction.

In our Trading business, we achieved our highest margin per minute and highest gross margin in more than two years. We also made significant progress in the Voice over Broadband space and in mobile, areas that are clearly important for future growth. We continued our success in the Voice over Broadband space and added new customers including a leading national player in Europe and a global internet brand with significant growth potential.

In the mobile space, the intensified focus on international traffic in the prepaid and unlimited mobile market in the U.S. is providing new opportunities for us. iBasis was selected to provide international termination for a leading and growing prepaid wireless operator in the U.S.

During the quarter we continued to enhance our competitive advantage by expanding and strengthening our global termination footprint. By leveraging and consolidating our bilateral agreements we have been able to increase the number of countries in which we now have advantageous termination capabilities. Belgium is one such home country that we are excited about. We believe that all of these developments will help drive growth in our Trading business going forward.

Despite a 9% increase in traffic in the first half of '09 our outsource business experienced a 23% reduction in gross profit compared to the first half of 2008 as the traffic growth was more than offset by 30% reduction in margin per minute.

We continue to believe that outsourcing of international voice, presents us with exciting opportunities. The economics of the international voice business and its dependence on scale, cost leadership and specialization continue to drive interest in outsourcing throughout the industry. The same factors favor iBasis as a winning provider.

Our Retail segment consisting of our prepaid calling card business and our Pingo e-commerce business has achieved revenue growth of 9% and gross profit growth of 12% in the first half of '09 compared to the first half of '08, despite the ongoing economic downturn that strongly impacts the markets for those products.

Dick will now provide additional detail regarding the financial performance in the quarter. Dick?

Dick Tennant

Thanks, Ofer. The lower minutes in revenue in the second quarter compared to the first quarter of 2009, largely reflects the effects of the global economic downturn and a pricing initiative we launched at the beginning of the year. This initiative was aimed at focusing more of our efforts on higher margin business. Although our revenue declined sequentially in the second quarter, we had the highest gross margin percent and highest adjusted EBITDA margin since the fourth quarter of 2007.

Our total revenue for the second quarter was $241.3 million compared to $360.8 million in the second quarter of 2008 and $255.5 million in the first quarter of 2009. The weakening of the euro on a year-over-year comparison had an unfavorable effect on our euro-based revenue of approximately $24 million.

On a sequential basis, it had a favorable effect on our euro-based driven revenue, of approximately $7 million, compared to the first quarter of 2009. Our average revenue per minute, which is based on our reported net revenue divided by minutes of traffic, was $5.14 for the second quarter compared to $5.84 in the second quarter of 2008, and $4.97 in the first quarter of 2009.

Our average margin per minute improved to $0.68 in the second quarter, compared to $0.61 in the second quarter of 2008, and $0.6 in the first quarter of 2009. Minutes in the second quarter were 4.7 billion minutes, compared to 6.2 billion minutes in the second quarter of '08, and 5.1 billion minutes in the first quarter of 2009.

Our sources of revenue are Trading and Outsourcing, which are included in our Wholesale reporting segment and Retail. Our Trading revenue consists of business in which we serve other service providers including mobile operators, incumbent and emerging carriers, calling card providers and retail voice-over-IP companies.

Revenue from trading was $166.2 million in the second quarter, compared to $272.2 million in the second quarter of 2008, and $183.3 million in the first quarter of 2009. Our outsourcing revenue consists of traffic from KPN and its subsidiaries as well as TDC, which is sent to us for international termination.

Our outsourcing revenue in the second quarter was $54.2 million, compared to $67.8 million in the second quarter of '08, and $48 million in the first quarter of '09. Our Retail business consists of our retail prepaid calling card business and our Pingo e-commerce business. Revenue from our Retail business in the second quarter was $20.9 million compared to $20.9 million in the second quarter of '08 and $24.2 million in the first quarter of 2009.

Despite difficult economic environment, our Retail business has been able to maintain steady performance. Our gross profit consists of total net revenue minus total data communications and telecommunication costs. The second quarter represented our fourth consecutive quarter of gross margin percentage improvement.

In the second quarter gross profit was $31.8 million or 13.2% of revenue compared to gross profit of $37.5 million or 10.4% of revenue in the second quarter of 2008 and $31 million or 12.1% of revenue in the first quarter of 2009.

Our operating expenses were $21.8 million in the second quarter compared to $25.5 million in the second quarter of 2008 and $22.7 million in the first quarter of 2009. This reduction in operating expense reflects the success of our integration efforts as well as our continued monitoring and control over costs including the salary freeze we implemented at the beginning of this year.

The completion of our new ERP and billing system implementations in the first quarter of 2009 also contributed to the lower level of operating expenses this quarter. We expect to generate additional cost savings in the future from the completion of these projects.

Depreciation and amortization was $10.8 million compared to $8.5 million in the second quarter of 2008, and $8.2 million in the first quarter of 2009. Including depreciation and amortization in the second quarter is an adjustment of $1.8 million. This adjustment relates to an understatement of depreciation expense associated with our fixed asset valuation in conjunction with the KPN transaction. Depreciation was understated by $1.2 million in 2008 and $0.6 million in the first quarter of 2009.

Excluding this adjustment of $1.8 million, depreciation and amortization expense was $9 million in the second quarter. We had a foreign exchange gain in the second quarter of $0.2 million compared to a loss of $0.5 million in the second quarter of 2008, and a loss of $0.6 million in the first quarter of 2009.

In the second quarter there is an adjustment reflecting the $2.3 million gain. This adjustment corrects a re-measurement of an asset balance from one currency to another in our Netherlands subsidiary. This adjustment relates to periods prior to October 1st of 2007, the date of the KPN transaction. Excluding this adjustment, we had a foreign exchange loss in the second quarter of $2.1 million.

Our income tax expense in the second quarter was $3.1 million and consisted primarily of taxes on the income of our Netherlands operations for the period. Income tax expense was $2.9 million in the second quarter of '08 and $1.1 million in the first quarter of 2009.

The sequential increase in a taxable income from our Netherlands operations reflects a combination of higher sequential gross profit, the impact of the one-time currency adjustment, I previously mentioned and lower direct cost as a result of our integration efforts.

Our adjusted EBITDA is defined as earnings before goodwill impairment, stock-based compensation, expenses associated with review of our stock option granting practices, foreign exchange gains and losses, merger-related expenses, purchase accounting adjustments and certain non-recurring charges, interest, depreciation and taxes.

Adjusted EBITDA improved 10% sequentially to $10.7 million in the second quarter, compared to $9.7 million in the first quarter of 2009, and $12.7 million in the second quarter of 2008. Net loss was $4 million in the second quarter or $0.06 per share, compared to break even results in the second quarter of 2008, and a net loss of $1.7 million, or $0.02 per share in the first quarter of 2009.

In the second quarter, our basic and diluted shares were 71.2 million, the same as in the first quarter of 2009. In the second quarter of 2008, our basic shares were 74.5 million, and our fully diluted shares were 75.1 million.

We ended the quarter with cash and cash equivalents of $57.3 million, compared to $48.6 million at the end of the first quarter. Our cash flow from operations in the second quarter was approximately $15 million and capital expenditures were approximately $1 million, resulting in a very strong cash flow of $14 million.

We further reduced our bank borrowings by $1.8 million during the second quarter, and we made the final payment of $5.2 million including interest on a working capital adjustment associated with our KPN transaction in 2007.

Our net cash, which is cash and cash equivalents minus long-term debt, was approximately $38 million at the end of the second quarter, compared to approximately $27 million at the end of the first quarter, an improvement of almost $11 million.

Now I would like to address our guidance. The information provided in this financial outlook is as of July 22, 2009 and supersedes all previous guidance. We expect adjusted EBITDA in the second half of 2009 to be moderately higher than in the first half of 2009, and we anticipate capital expenditures of $10 million to $14 million in 2009.

We believe that the decline in minutes resulting from our pricing initiatives and focus on higher margin traffic is stabilizing and that revenue will begin to grow again.

Now I'll turn things back to Ofer.

Ofer Gneezy

Thank you, Dick. I’m very pleased with our Q2 results. They are strong evidence of the progress we are making through our continued focus on growth initiatives to improve margin in a sustainable way, reduce operating expenses and put iBasis firmly on the path to profitable growth.

Our business is leverage free and in spite of the prevailing global economic conditions, performing well on key metrics including margin expansion and EBITDA and cash generation. We are beginning to achieve lift in our results and are well-positioned for continued improvement.”

Before we open the call to questions, let me remind you that on today's call we are discussing our second quarter performance and we ask that you limit your questions to matters related to our results announcement. We will not be taking any questions on KPN's proposed unsolicited tender offer on today's call. We appreciate your cooperation and understanding.

Now I'd like to open the call for questions. Peggy?

Question-and-Answer Session

Operator

(Operator instructions) Our first question comes from the line of Ben Mackovak with Rivanna Capital.

Ben Mackovak – Rivanna Capital

Hi guys. When do you expect to see sequential revenue growth? You said you expected, can you put a timeframe on that?

Ofer Gneezy

We believe that our growth initiatives are beginning to kick in now and our result in the second half as we said will start improving. So, hopefully that improvement will be on those various metrics.

Ben Mackovak – Rivanna Capital

Okay. Can you share with us the exact minutes for the different businesses?

Ofer Gneezy

Yes. We did 3.5 billion minutes in trading, 700 million minutes in outsourcing.

Ben Mackovak – Rivanna Capital

Do you have more granular numbers or is that all we have?

Ofer Gneezy

Yes. That’s all the numbers. We don’t further break it into products or smaller granularity.

Ben Mackovak – Rivanna Capital

Can you talk a little more about the gross margin for the outsource businesses? Are we getting to a point where it's going to stabilize or do you see them continue to decline?

Ofer Gneezy

We have several streams in outsource, some of them are negotiated pricing and some of them are on some declining scale pre-negotiated in our agreement. So, those will step down as in the agreement and the rest of the impact has to do with the mix between the different streams. So if we get more traffic on the higher margin streams, it could improve the margin, if we get more traffic on the lower margin stream, it pulls it down.

Ben Mackovak – Rivanna Capital

Do they step down throughout the life of the contract or is there a point where they just plateau?

Ofer Gneezy

They have one more step down and then they are negotiated prices.

Ben Mackovak – Rivanna Capital

Great quarter and we think about 55 is too low. Thank you.

Ofer Gneezy

Thank you.

Operator

I assure that there are no further questions at this time. I would now like to hand the presentation off to Mr. Ofer Gneezy.

Ofer Gneezy

Thank you, Peggy. And thank you all for attending this call. We appreciate your ongoing support. Good-bye.

Operator

This concludes your conference call. Thank you for your participation today. You may now disconnect.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: [e-mail]. Thank you!